Diving into Bull and Bear Markets: What You Need to Know
Navigating a bull or bear market can be daunting—but it doesn't have to be. Here's what you need to know about each type of market and how to make the most of them.
Financial markets exist in a constant state of flux. Prices rise and fall daily, and all stocks, bonds, equities—and yes, even cryptocurrencies—are subject to these price fluctuations. Ultimately, markets only do one of two things: move up or down. But while this might seem simple, the reality is that the underlying reasons for these movements are anything but.
Making sense of financial markets can seem impossible for the average person. But it doesn't have to be. In this guide, we'll introduce you to two basic concepts of financial markets: bull markets and bear markets.
Bull markets are characterized by increasing prices and an optimistic sentiment among investors. Generally, a bull market is said to have begun when prices have increased 20% from a local low. During bull markets, assets tend to rise rapidly, and investors are more likely to take on riskier investments to achieve more significant returns. It's not uncommon for investors to feel like they are "riding the wave" during bull markets—indeed, many people make a great deal of money during these periods.
Causes of Bull Markets
- Economic growth: When the economy is expanding, businesses tend to do well, which often leads to increased stock prices. Economic growth is typically measured in terms of gross domestic product (GDP), which is the value of all goods and services produced in a country.
- Increased consumer confidence: When people feel good about the future, they are more likely to spend money, leading to higher business profits and increased stock prices.
- Low interest rates: Low interest rates make it cheaper for businesses to borrow money, leading to increased investment and economic growth. This is called "cheap money," and it's often a driver of bull markets because people and businesses are more likely to spend when borrowing is less expensive. When interest rates are low, consumers spend more money on new homes, cars, and other big-ticket items. Businesses will invest more in new factories, equipment, and expansionary initiatives.
- Speculation: It's not uncommon for people to get caught up in the excitement of a bull market and start buying assets simply because they think the price will continue to go up. This speculative behavior can lead to even further price increases, at least in the short term. As bull markets heat up, speculation gets ahead of markets, and prices can become divorced from underlying fundamentals like earnings or economic growth. This can often lead to a "bubble"—when prices increase to the point where they are not sustainable and eventually collapse.
- Psychology: Markets are driven by the collective psychology of all participants. When more people are optimistic, they are more likely to take risks, leading to higher prices. As prices increase, more people become confident, and the cycle feeds on itself.
What are Bear Markets?
Bear markets are the opposite of bull markets, characterized by falling prices and negative sentiment among investors.
A bear market is typically said to have begun when prices have fallen 20% from a local high. During bear markets, prices tend to fall rapidly, and investors become more risk-averse, often selling off assets to avoid further losses.
Causes of Bear Markets
- Economic slowdown: Businesses tend to do poorly when the economy slows down, which often leads to falling stock prices. GDP tends to contract, and companies may lay off workers or even go out of business.
- Increased interest rates: Rising interest rates make it more expensive for businesses to borrow money, leading to decreased investment and stalled or negative economic growth. This can cause a bear market as companies cut back on expansionary initiatives and consumers spend less money. The Fed can increase rates for various reasons, namely taming inflation or slowing economic growth.
- Political uncertainty: Uncertainty over trade policy, wars, or elections can lead to decreased confidence among investors, which can trigger a sell-off and a bear market.
- Inflation: When the prices of goods and services increase, this is called inflation. When inflation is high, it often leads to higher interest rates as the government tries to slow down the economy. As businesses cut back on expansionary initiatives and consumers spend less money, this can lead to a bear market.
- Investor psychology: Just as optimism can feed a bull market, pessimism can feed a bear market. Investors are less likely to take risks when they become discouraged, causing lower prices. As prices fall, more people become pessimistic, and the cycle feeds on itself.
- Overvaluation: When prices become too high relative to underlying fundamentals like earnings or economic growth, a market may be said to be overvalued. This can lead to a sell-off as investors realize that prices are not sustainable and eventually adjust downward.
How Does All of This Relate to Crypto?
First and foremost, crypto history shows us that Bitcoin leads the way for the rest of the market. Other digital assets will follow suit when Bitcoin is in a bull market and vice versa. It's the largest and most well-known cryptocurrency with the most liquidity, so it's not surprising that its movements significantly impact the rest of the market.
While there are many similarities between bull and bear markets in crypto and other asset classes, there are also some significant differences to keep in mind. For one, crypto is a new asset class, and as such, it is much less understood than things like stocks or bonds. This lack of understanding can lead to more extreme price movements—both up and down. In addition, crypto is much more volatile than other asset classes, meaning that prices can change rapidly and unexpectedly. Finally, the crypto market is open 24/7, meaning someone is continually trading somewhere in the world. This constant activity can lead to more price swings as countries worldwide come online and go offline.
Generally, crypto has followed a four-year pattern of bull and bear markets, coinciding with Bitcoin's halving cycle—when the block reward for miners is cut in half. In each of Bitcoin's bull and bear markets, the price bottomed out before the time of the halving and then began a price increase and bull market thereon after. This pattern is likely because halvings reduce the supply of new Bitcoin on the market, leading to increased demand and higher prices.
After the halving and subsequent bull markets, the price rises substantially, more than all asset classes—until it peaks and decreases significantly. After these "blow-off tops," Bitcoin and crypto prices tend to enter a long, drawn-out bear market until the next halving, falling 80% and more from their peak value.
We want to stress that this is not financial advice. We can't predict how any markets, crypto or otherwise, will behave in the future. However, by understanding the underlying drivers of bull and bear markets, you can be better prepared for whatever the market throws your way. But no matter what, we're forever bullish on Bitcoin.
- Bull markets are periods when prices rise and investors are optimistic, while bear markets are periods when prices fall and investors are pessimistic.
- In general, bull markets are driven by increased confidence, low interest rates, and strong economic growth.
- Bear markets are driven by high inflation, political uncertainty, and investor psychology.
- In the crypto world, Bitcoin is the biggest driver of market movements, and halvings tend to coincide with bull markets. Crypto typically follows a four-year pattern of bull and bear markets.